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As Dollars Pile Up, Uneasy Traders Lower the Currency’s Value

The dollar was on a roll just a few months ago, bounding higher against foreign currencies as investors sought a safe hiding place for their money amid a global downturn. But now, many are rethinking their decision to buy American.

The dollar skidded to its lowest point in five months this week, battered by creeping fears that Washington’s costly efforts to stimulate the economy are growing harder to finance and may set off an unwelcome bout of inflation. Analysts are increasingly concerned that a rise in prices could hurt consumer spending, deepening the recession.

The dollar fell more than 3 percent this week, weakening to $1.40 against the euro on Friday and to $1.59 against the British pound. Experts said the flight to quality that made United States Treasury debt and dollar holdings so valuable at the height of the financial crisis was now heading for a rough landing.

“Those little footsteps coming down the hallway have begun to frighten many people,” said David M. Darst, chief investment strategist at the Global Wealth Management Group of Morgan Stanley. “The dollar has sold off inexorably, slowly but surely. The key thing driving it is psychology.”

The Federal Reserve is printing money from thin air, and the government is issuing trillions of dollars in new debt as it tries to spend its way out of the recession with a huge stimulus package, new lending programs, health care overhauls and automotive rescues.

Experts warned there might not be enough demand to sop up all those new dollars and dollar-denominated Treasury securities. That led investors to fret about the sustainability of the United States government’s AAA sovereign credit rating after the Standard & Poor’s ratings agency warned this week that the sovereign rating of Britain — which is spending hundreds of billions of pounds to engineer a recovery — is under threat.

On Thursday, the influential bond fund manager Bill Gross of Pimco said in an interview on Bloomberg Television that the United States might eventually lose its triple-A credit score.

The dollar’s sharp slide has renewed concern that investors worldwide were beginning to favor other currencies, foreign economies and commodities like oil and metals.

Stock markets fell modestly on Friday, adding to big declines from a day earlier, and demand for longer-term Treasury debt ebbed, pushing the yield on the benchmark 10-year note to 3.44 percent, its highest point in six months. The Dow fell 14.81 points, or 0.2 percent, to 8,277.32 while the broader Standard & Poor’s 500-stock index was down 1.33 points, or 0.2 percent, at 887.

Crude oil futures rose above $60 a barrel this week, and gasoline prices climbed to a nationwide average of $2.39 a gallon, according to AAA, the automobile club. The price of gold — a hedge against inflation — rose to nearly $960 an ounce, its highest price in two months, and investors also raised the prices of copper, wheat and corn.

Interest rates were higher. The Treasury’s benchmark 10-year note fell 22/32, to 97 9/32, and the yield, which moves in the opposite direction from the price, was at 3.45 percent, up from 3.36 percent late Thursday.

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Only recently, the economy was veering into a spiral of lower prices and lower wages that economists feared would deepen the downturn. As prices dropped precipitously at the end of last year, consumers could stretch their dollars farther. But policy makers worried that a deflationary cycle would make consumers less likely to spend money if they constantly believed prices would be cheaper in the future.

Now, some are starting to warn about an economic beast called stagflation — the combination of higher prices and a struggling economy.

“The economy may be at greater risk of inflation than the conventional wisdom indicates,” Charles I. Plosser, president of the Federal Reserve Bank of Philadelphia, warned in a speech Thursday. He said prices could climb 2.5 percent in 2011, a higher forecast than the Fed’s expectations of 1 to 1.9 percent inflation.

Although the United States government officially supports a strong dollar, policy makers have let its value slide in past years because a weaker dollar makes American exports cheaper and more attractive. But a weaker dollar also makes imports — like crude oil from the Middle East — more expensive, raising the costs of energy and transportation.

“Everyone says a little inflation can’t hurt us,” said Martin D. Weiss, chairman of Weiss Research. “What they don’t seem to understand is, that’s inflation in a growing economy. Inflation on top of rising unemployment is another thing entirely. It’s much more painful, and it could be the straw that breaks the camel’s back.”

Some experts say fears of inflation and the loss of the dollar’s strength are overblown.

With the global economy in its worst downturn since World War II, and European banks facing up to $1 trillion in new losses from Eastern European investments, the euro may begin to weaken on its own against the dollar, they say. The United States remains the world’s default reserve currency, these experts add, and Treasury debt is still considered the world’s safest investment.

The Federal Reserve’s own forecasts call for inflation to hover in a “low range,” rising only about 0.6 to 0.9 percent this year. Consumer prices dropped sharply over the last six months as demand plummeted, and prices were flat last month after falling slightly in March.

According to the Labor Department, consumer prices in April were down 0.7 percent from a year earlier, their biggest decline in decades. Airline tickets cost less, gasoline is cheaper than last year, and retailers are still offering deep discounts to beckon consumers.

But while lower demand and a sluggish economy normally act to constrain inflation, some experts said the pressure on prices in the months ahead might be driven by economic activity elsewhere in the world, not just inside its biggest economy.

“There is growth in the emerging markets,” said Mr. Darst of Morgan Stanley. “There’s an international demand as well as a U.S. demand. The inflationary pressures are going to be coming from outside the walls of Troy.”

A version of this article appears in print on , on Page B1 of the New York edition with the headline: As Dollars Pile Up, Uneasy Traders Lower the Currency’s Value. Order Reprints|Today's Paper|Subscribe